29 | October | 2011 | Andrew Michael Teo

In my previous articles on The Inevitable Collapse of China’s Banking System and The Chinese Debt Hypocrisy, we have seen how China had gone into a lending and spending spree and how she has admitted to her mountains of debts through her various moves, like allowing the local governments to start issuing their own bonds.

In a recent Reuters report, China is proposing an Asean Bank with the objective of helping her small and medium enterprises (SMEs) to invest in Southeast Asia and development in southwestern China.

After the launch of the Euro currency in 1999, there were calls for a common currency in Asian. These calls were renewed after the last global recession of 2008 resulting in the establishment of the Chiang Mai Initiative Multi-lateralization (CMIM), which is a US$120 billion crisis fund in the region on 24th March 2010, and the subsequent establishment of ASEAN+3 Macroeconomic Research Office in Singapore with the former vice-head of China’s State Administration of Foreign Exchange, Mr Wei Benhua as its first director in May 2011 after a leadership tussle with Japan in Hanoi.

With the proposed Chinese yuan as the regional trade settlement currency, which is a step in China’s ambition of making the yuan as the common Asian currency, the bank is proposed to be located in the southern region of Guangxi where China hopes it can help transform the area into a financial region.

According to the report, China is likely to be the bank’s biggest single shareholder with an initial investment of up to 30 billion yuan ($4.7 billion) and hopes the ASEAN Bank will buy it some goodwill in Southeast Asia, providing low interest loans to infrastructure projects and Chinese SMEs investing there.

China’s Objective for an Asean Bank

China’s objective in calling for an Asean Bank is to finance her own SMEs with new business opportunities that will help them venture abroad.

Given that her own Big Four Banks are experiencing high debts and high non-performing loans and have been reluctant to extend credit facilities to her SMEs, many of these SMEs have recently either gone bust or turned to China’s notorious shadow bankers who charge exorbitant interest rates despite Beijing’s “determination” to clamp down.

Revelation of an Impending China’s Banking Crisis

Despite repeated denials by the Chinese government in regards to the health of their banking system, some concrete data and evidences have emerged regarding the potential size of the problems that may be lurking on China’s bank balance sheets with particular reference to the losses that may be incurred from risky stimulus loans made to LGFVs.

China’s sudden proposal of an Asean Bank at the same time when she decided to allow her local governments to start issuing their own bonds despite a ban under the 1994 Budget Law inevitably raise some suspicious and reveal much of the speculated view of an impending bank crisis.

China’s growth had been largely spurred by cheap and easy credit extended to the local governments via their financing vehicles for infrastructure buildings and real estate developers.

Beijing has been in constant denial of her high debts to GDP ratio and has persistently insisted that her debts stand at 18% of GDP. With the Big Four banks under the direct supervision of the Communist Party and run by bureaucrats who are members of the Communist Central Committee, it is astonishing to hear that these banks have recently been very reluctant to lend to her SMEs despite several repeated calls from Premier Wen Jiabao to extend credits to the SMEs.

To further “hide” potential bad debts and non-performing loans, China has recently allowed cash-strapped companies to swap debt into stock from next year. The measure, which will effectively reclassify a bank’s non-performing loan into that of equities holding in its balance sheet but does nothing much to resolve the high non-performing loans issue, will help bankrupt companies to restructure and is part of moves by the government to help businesses reduce debt and resolve financial problems, Mr Zhou Bohua, director of the State Administration of Industry and Commerce, was cited as saying.

As the proposed Asean bank will be operating more like a commercial bank and seems to be assisting and benefitting only China’s SMEs, it is apparent that the Chinese Banking System is facing some liquidity problems in the face of a slowing economy and falling property prices.

In this aspect, as China goes about cleaning up her banks to avoid a similar banking crisis in the late 1990s, her hands are apparently tight, financially, as she will have to ensure that the SMEs remain in business so as to keep unemployment low to ward off any social unrest.

Additionally, Europe’s request for support from China to buy up some of the bonds from Europe distress countries are also weighing on China’s current financial position despite her $3.2 trillion in foreign exchange reserves.

In view of these reasons, it is inevitable that China would concoct a scheme that will not only enable her to save face should she decided to support Europe, but also to receive some financial assistance from Asean, including Japan and South Korea, to help her weather any severe economic and financial downturn in the next 2 to 3 years that could suck in any Asean economy that is very dependable on her growth.